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Market Updates

Market News Update: Movin’ On Up Allows Buyers of Luxury Homes to Defy the Economic Odds

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jeffersonFrom Jason Payne, Market News Analyst …

Yesterday (Tuesday 2/25) was a fun day for real estate analysts like me.  Toll Brothers – the largest U.S. luxury-home builder – reported its first quarter performance…

…and the results were very good…

…and the first quarter isn’t even finished yet!

Well, technically, the first quarter has concluded for Toll Brothers, because that company reports its quarterly earnings according to what analysts call a “fiscal year” (which is different from the typical “calendar” year).

But the corporate reporting calendar is not my point here.

My point is that one of our industry’s behemoths is doing very well right now, and that has important implications for smaller investors like you and me.

(Sincere apologies to Donald Trump, if he is reading this blog post.  You are not a small investor, Mr. Trump.  You simply have gigantic hair, which causes all things around it to appear smaller than they actually are.)

Of course, almost every corporate earnings report is rife with unusual and non-recurring items, which frequently threaten to mask “the true story” behind a company’s polished/biased press releases – and yesterday’s news from Toll Brothers was no different.

There are a few special items to consider, in addition to the basic positive nature of Toll Brothers’ earnings data – one of which actually amplifies the good news for investors like us…

…and one of which raises a somewhat sobering realization.

cardJason Payne’s Corporate Report Card for Toll Brother’s First Quarter Results

During the three months ended January 31, 2014, Toll Brothers (NYSE: $38.25) generated net income of $45.6 million, which represented a stunning 936% improvement from net income of $4.4 million one year ago.

Similarly, by my calculation, the company’s pre-tax income of $41.4 million improved a whopping 499% from year-ago levels – and that’s excluding approximately $30 million of recent revenues that I do not consider to be representative of the company’s true health!

Surprised?

Me too.

And we’re not alone…

In fact, Bloomberg recently surveyed 10 of my former peers in the institutional research community, and their average expectation for Toll Brothers’ latest quarterly income was only $0.17 per share – which fell shy of the company’s actual EPS ($0.25) by 32 percent.

In my opinion as a former stock analyst, I find that last statistic to be the most telling of all.  Even the guys who get paid (very well) to research Toll Brothers’ financial health were grossly unprepared for this caliber of success.

So what gives?  How is this homebuilder performing so well at a time when the housing market is widely-reputed to be “cooling”?

Didn’t Janet Yellen and the U.S. Federal Reserve sign a death sentence for the domestic housing market when they began to taper the government’s recent easy money policies?

If so, then somebody forgot to tell the people in our industry known as “move-up” buyers.

A move-up buyer is the sort of homebuyer you think about when you sing the theme song for The Jefferson’s sitcom – somebody who is determined to be “movin’ on up [to the East Side]” at any cost – and this demographic is showing some amazing resilience in their pursuit of Toll Brothers’ luxurious housing assets.

So, for those of you Moguls who have been weighting your portfolios toward the high end of our market I say “congratulations”.  It appears that you may have been reading the economic tea leaves quite well, and the value of your assets possibly grew at a rate last quarter that dwarfed the growth rate for other “low-end” real estate investors.

signA Word of Caution

But one word of caution before I wrap-up this generally positive post…

As I was parsing through the data for Toll Brothers’ first quarter earnings, I noticed that the company’s stellar financial performance was partially driven by a significant reduction in enterprise-level expenses (opex, SG&A, etc.).  Although these expense reductions should not be viewed as the primary reason for Toll Brothers’ recent success (or even a secondary reason), they were significant enough to make this seasoned analyst take note…

…and I feel compelled to remind the Mogul community that small retail investors should not expect to be earning annual returns of 500-900% on their residential housing assets – even if they are identical to the luxurious properties in Toll Brothers’ portfolio.

You see, Toll Brothers is able to amplify the performance of its portfolio through certain economies of scale (and economies of scope) that most of us non-institutional investors will never be able to employ in our own investing strategies.  It’s a sobering reality, but it’s true.  And my conscience compels me to remind Mogul’s readers of this phenomenon today.

Consider this my effort to prevent any frustrating heartbreak twelve months from now, when a hypothetical “newbie” might begin to wonder why his personal portfolio of expensive luxury homes has failed to match any future “grand slam” results from Toll Brothers and the like.  (It’s all about the high-tech and well-oiled corporate machine, my friend…)

But, hey…  If your real estate portfolio is generating returns anywhere close to the triple-digit range, then you’re probably not going to be too upset!  Right?!

Jason Payne’s next Market News Update is scheduled for Wednesday, March 5th.

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